Glossary of Hostile Takeover Terms with Discussion

Loose End: The Insider Trading Lawsuit

Hi everyone:

One of the loose ends, now that Valeant's takeover efforts have been defeated is the status of the insider trading lawsuit.

Counter to general expectations, despite Valeant publicly dropping their bid and Ackman openly supporting the Actavis deal, Allergan has not dropped the suit. At least not yet.

(It was reported, on the same day the Actavis deal was announced, that Ackman was still planning to hold the special shareholder meeting on December 18 as a leverage over Allergan's board to drop the suit. It took him all of one day to figure out that going into a meeting where he was going to lose 90.3-to-9.7% was no leverage at all. He dropped the meeting the next day).

To some extent the suit is almost irrelevant anyway. The judge has already ruled that Allergan is not a victim, only Karah Parschauer. (As a reminder, Parschauer, a co-plaintiff with Allergan, sold some shares during the time Ackman was buying. Ackman knew that a Valeant hostile takeover bid is coming and she didn't -- making him an alleged Insider Trader and her a victim). While the number of shares Parschauer sold is not public, I imagines the number can't be that high (she is a VP-level employee selling some vested stock options -- can't be a huge number -- probably less than 1000 shares). So, the most that she can win would be what she lost due to the Insider Trading (maybe $50/shares; even under some very stretched arguments, not more than $100/share). So, the most Parschauer can possibly win, tops, would be maybe $100K (plus legal fees -- maybe another $10M tops ). Even with the recovered legal fees, this amount is hardly worth the attention of a management team that is busy delivering a $120B baby.

So, if the most Allergan will ever recover is legal fees, why not drop the suit already? Once the merger completes, I can't imagine Actavis having any reason to continue a suit it inherited from Allergan with no material upside whatsoever. Therefore, I expect that the suit will be dropped sooner or later in any event, it's just a question of when (it's not even a question of terms -- no one really cares if Ackman agrees to pay Karah $100K in losses and Allergan $10M in legal fees, the most either could win in a completed trial). But, for now, having a leverage over Ackman and Valeant can't hurt. If the Actavis deal fails, and Valeant returns, the suit may regain relevance -- both low probability events, and even then it will just be another Soft Power, but might as well not ditch it just yet. I suppose that once the Board reaches the conclusion that the likelihood Valeant returning and Ackman causing further mischief is approaching nil (can't be far from that already), the suit will be dropped.

That leads to the question of just how much leverage does the suit provide against Ackman and Valeant? My answer is some leverage. Obviously, the old questions of blocking shares from voting are totally moot. However, in the background are the class action lawsuits -- some of which are already publicly seeking victims -- with the potential to suck out some or all of Ackman's (and Valeant's) profits. These suits will proceed, no matter what, until they either win, settles, or (I doubt it) lose. However, the longer Allergan is keeping the current suit going, with a much higher caliber of legal talent, access, discovery rights, domain expertise, and budget than any of the class action mills are likely to muster, at least initially; the more paved the road becomes for these class action firms in it's wake. In my view, the Class Action mills already have enough of a path paved -- once a Federal judge said "Serious Questions" and "Jury" in the same sentence, where before the legal territory was "uncharted," -- that additional paving won't change much. But, it's still leverage.

And what of the counter-suit? The one where Valeant claims that Allergan's own hands are unclean because they "manipulated" Valeant's shareprice by meeting with large Valeant shareholders and telling them them Valeant's business model is unsustainable leading some of them to ditch Valeant and push it's price down. Well, in prior posts, I described it as laughable (as if those institutional shareholders, with entire research teams, are so impressionable as to be so easily "manipulated"). Well, in his 30 pages opinion, Judge Carter didn't bother dedicating even one sentence to the counter-suit.

And, finally, is the matter of bruised egos and vindication. While DP and the Board shouldn't be using shareholders' (Allergan's) resources to pursue a lawsuit that is past the point of generating any benefit to the shareholders; the shareholders are now in a particularly thankful mood. Not only did DP and the Board sell the company at a price that was above their wildest dreams, a price that has only further escalated subsequent to the deal, to say nothing of twice having the discipline to avoid bad deals (Shire and Salix), but they have done so in the face of intense scorn, doubts, and fury from those same shareholders. And, most abusive of all, was William, Serious Doubts Insider Trader, Ackman. Not forgotten how he referred to DP as an unfit leader with a disabling conflict of interest, to the board as entrenched, to the R&D as wasteful, and in general how he was trashing the company from the moment he arrived. Not that there is a slightest word of apologies from him now -- rather, he is making the rounds of Wall Street and the media as the wonder-kid who should get the credit for putting Allergan "in play." Well, I suppose DP and the Board don't feel particularly hurried to drop this suit. Not just yet.

Wishing everyone a happy holiday weekend.

Dan.

 

Thanks for posting!

I think Pyott inserted the word "personally" to make sure it's clear he is sticking it to Ackman, but added the word "fiduciary" to also make it clear that driving this agenda is on solid corporate governance and legal grounds.

The trick question, of course, is the justification for using current shareholders resources (the cost of the trial hits current shareholders) to defend the interests of past shareholders (who sold when Ackman was buying). Faber basically supplied the answer to that question, and Pyott confirmed, with the word "precedent" -- meaning that the company justifies going after those who defrauded past shareholders to deter anyone from defrauding current and future shareholders.

Do keep in mind that, assuming the Actavis deal closes, the Actavis shareholders, who will own 71% of the combined company, are basically assuming 71% of the post-deal-date legal costs (pre-deal-date costs were factored into the book value of Allergan on deal-date, and thus into the deal price). (Actually, anything Allergan spends money on right now is 71% at Actavis expense). The flip side is that if legal fees are recovered, Actavis will also be getting 71% of the pre-deal legal fees that are recovered.

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Something that will be interesting to see, will be the way Valeant reports the profit they made on the deal in Q4 (recall, that part of the Ackman-Valeant deal had Ackman giving Valeant 15% of his gain if someone else buys Allergan -- effectively giving Valeant a fee for helping put Allergan "in play." Ackman sold the requisite number of shares and wired ~$450M to Valeant shortly after the duo dropped their bid).

Under accounting rules, Valeant can recognize this revenue as a "one time gain" (meaning it is not something that is a normal part of business operations). However, with an actual litigation ongoing (actually, even if this litigation is dropped but the Class Action Mills form a credible threat of additional litigation), Valeant is required to ask for an independent legal opinion estimating the exposure and probability of loss (so, for example, the attorneys may say that there is a 50% chance that they will lose $300M -- making for an expected loss of $150M), and declare that amount as a "reserve" (which effectively makes it a "one time loss" partially offsetting the "one time gain"). (When the litigation concludes, one way or another, the reserved and actual losses will be synced up with an additional "one time" loss or gain).

This will be interesting for two reasons. First, it will force Valeant to either admit that they are on the losing side of an Insider Trading litigation (by posting a reserve -- even a very small one), or to flout accounting rules by ignoring the issue altogether (if they honestly believe they are on the winning side, they should probably publish a supporting legal opinion -- generated cognizant of Judge Carter's ruling -- as the justification for not having any reserves). Second, Valeant have been accused (by our Seeking Alpha friends) of gaming "one time losses" to hide operating costs (such as license fees and, effectively, R&D costs folded into acquisition costs). Valeant created an accounting concept of "adjusted cash earning" which they claim is the metric that counts. Seeking Alpha sarcastically calls it VAAP -- Valeant Accepted Accounting Principals (a word play on GAAP -- Generally Accepted Accounting Principals). (Other Financial media have also started quoting Seeking Alpha's "VAAP" terminology). If Valeant were to count the $450M "one time gain" as part of their all-important "adjusted cash earning," after regularly not counting "one time losses," it will further support Seeking Alpha's criticism. This will be particularly egregious if they count the $450M in, while not counting (or having) the offsetting reserve on the very same transaction!

Dan.

 

Hi!

Yes, it does sound crazy

First, your observation about the AGN stock price being too low is even stronger than you state it. The $219 figure is not the important one -- in fact, it was relevant for all of 7 hours and 15 minutes (from when the deal was announced, 2:15AM EST November 17 until the market opened at 9:30AM) -- but rather the deal formula ($129 cash + 0.37 ACT shares). As of market close Monday (12/1/2014), with ACT at $263, the deal is worth $226 ( = $129+0.37*$263). With AGN closing at $211, there is a $15 ( = $226-$211 ) gap between the deal value and AGN shareprice (there was an earlier discussion on this thread of the gap -- where I presented a calculation that such a big gap implies a market-estimated risk of 40% that the deal won't close; an insanely high number for a deal that is signed, supported by both sets of boards, managements, and shareholders, and has no known opponents).

I don't have any theory explaining this mystery. What's more, in two weeks, this gap hasn't even narrowed. In fact, ACT and AGN seem to be moving in tandem, maintaining the gap within a narrow $15-16 range. So, it would seem that there is more to it than just a loose end forgotten in the chaos, waiting to be arbitraged out.

With the gap clearly meaningful, the numbers supporting your theory (of AGN planning to walk away) even more forcefully than you presented them, and me having no alternative theory; it's hard not to start thinking about crazy possibilities.

However, even when entertaining crazy possibilities, I have to say that the idea of Allergan walking away is a non-starter. Allergan got an amazingly good deal -- the shareholders have let out a collective WOW. If it were to walk away, legally, it would have to be for the benefit of a superior (to the shareholders) alternative -- does anyone seriously think there is such an alternative? If there is, it better be superior by more than the breakup fee, and it better be one that didn't exist on the day the Actavis deal was signed (or else, the ACT deal shouldn't have been signed).

Also, Valeant (or someone else proposing the same idea of stripping down Allergan, shutting down R&D, laying off most employees, and cashing out it's products) is never really gone. If Allergan were to walk away from ACT, they'd be back in a jiffy.

And, finally, this Board has played it amazingly straight. Didn't even get tempted into a dirty trick their own adviser (Goldman Sachs) proposed. Even in the face of blistering criticism from shareholders, ISS, and the DE judge; played it cool, kept it disciplined, said what it meant, and meant what it said. Not once did this Board backtrack on any of it's own words, not even a shade of backtracking. Having played it so straight, having been so thoroughly vindicated, and having gotten such a good deal; it is unthinkable that they would want to throw it all away on a "just kidding" maneuver!

Dan.